Entitlement Reforms Should Cut Benefits and Taxes

January 6, 2012

Most Social Security reform proposals would result in fewer benefits for future retirees. However, if the program pays out less in benefits, the payroll taxes needed from younger workers to support the program will be lower than they otherwise would be. In this light, it is crucial to recognize how the most often proposed reforms will affect workers of various income levels by taking into account their loss of benefits and comparing it with their lower tax liabilities, say Thomas R. Saving, a senior fellow, and John C. Goodman, president and CEO, at the National Center for Policy Analysis.

The following are three of the most commonly suggested reforms for reducing Social Security spending:

Progressive price indexing of benefits: a way of tying the growth of benefits to worker income such that high-income earners receive lower benefits as a percentage of their income.

Change the benefit formula: a way of reducing the size of monthly benefit checks.

Raise the retirement age: increasing it to age 70 by 2032 followed by increases of one month every two years.

Were the retirement age raised, the loss of benefits would be greater than the recuperated taxes for all income groups. However, certain income groups would be harmed less than others.

A 41 year old with a lifetime average annual income would receive a reduction in benefits of about $60,000 but would pay $40,000 less in taxes, meaning that the loss in benefits would be 67 percent covered.

For a poverty-level worker, the lower tax burden would offset 40 percent of the benefit loss.

For a high-income worker (16 times the poverty level), the lower tax burden would offset 90 percent of the benefit loss.

A combination of changes to the benefit formula and a progressive price indexing scheme would also do a great deal to alleviate the burdens on Social Security. Simultaneously, many workers would actually recoup more in taxes than they lose in lowered benefits.

Changing the benefit formula lowers the average-income worker's taxes by more than the loss of benefits, and adding progressive price indexing causes lower taxes to exceed the accompanying benefit loss by $30,000.

Progressive price indexing would reduce the tax burden for today's 26 year olds in every income group by more than their benefit loss when compared with fully funding current law benefits.

The poverty-level worker's benefit loss would be offset 85 percent by lower taxes.

The efficacy of these options in lowering the burdens on the Social Security program, combined with the offsetting impacts of lower taxes, make them all feasible options.